Conversation Pieces

For years a technology known as VoIP (voice over Internet protocol) has served as an esoteric incarnation of ham radio, allowing its tech-savvy practitioners to make free but faltering long-distance calls through desktop computers.Tim Reason, CFO MagazineJune 1, 2001

For years, a technology known as VOIP (voice over Internet protocol) has served as an esoteric incarnation of ham radio, allowing its tech- savvy practitioners (read: geeks) to make free but faltering long- distance calls through desktop computers.

Now VOIP is going mainstream, and some say it will revolutionize voice communications every bit as much asthe work of Alexander Graham Bell. Companies of all kinds, from major telecom carriers to small firms eager to slash phone costs, are deploying current products and developing new ones, all designed to break phone conversations into small data packets and send them traveling over new communications networks in the same manner that E- mail, Web pages, and even those geek calls now travel over the Internet.

The first and most dramatic changes will be among the carriers, which see VOIP not only as a new revenue stream but also as a way to build a new infrastructure. But a few early adopters within the corporate sphere are already rolling out internal pilot tests of Internet protocol­based telephone systems. "Right now, the [corporate] market is at a very embryonic stage," says Jim Hourihan, vice president of marketing at Woburn, Massachusetts-based Pingtel Corp., a manufacturer of IP telephones. "It's happening among the very early adopters--some would say the lunatic fringe." A survey conducted by research firm Meta Group Inc., in Stamford, Connecticut, however, suggests broader interest; the company found that at least 40 percent of large corporations have some sort of VOIP testing under way.

At the carrier level, there already is widespread agreement among industry observers that the massive circuit-switched telecommunications network--built on systems that maintain an open circuit between callers for the duration of a call--must ultimately bow to an Internet model, which breaks up data--whether an E-mail or a voice conversation--into tiny packets, transports each packet via whatever route is available, and reassembles them in the proper order at the destination. Since data traffic now exceeds voice traffic, and since voice can be handled in the same manner as data, many experts say it makes more sense to have a single architecture that can handle everything, rather than the current hybrid of IP and circuit-switched telecom.

Initially, voice transmission encountered problems when handled via IP--the packets have to arrive in the right order to avoid the sort of stammering conversations that were the hallmark of early VOIP experiments. But experts say that had less to do with the network and more to do with using a computer as a phone. New "endpoint" devices designed for VOIP can eliminate those problems and provide the same quality as traditional phone calls.

In fact, you may already have made an IP phone call without realizing it. Calls placed over the public switched telephone network can be easily converted to data streams using devices called IP gateways. Marthin De Beer, general manager of the enterprise voice and video business unit of San Jose, California-based Cisco Systems Inc., says that in the past five years, many companies have begun to use IP networks to connect the private branch exchange (PBX) systems of individual offices, a technique known as toll bypass because it avoids the cost of moving such calls over local and interstate telephone networks.

Worldwide, IP networks carried about 10 billion minutes of telephone calls during 2000, according to Probe Research Inc., in Cedar Knolls, New Jersey. However, that's less than 1 percent of the number of calls made each year, and includes calls that traveled over IP networks for part of their journey but that may have been circuit-switched as well.

CARRIER WARS

But carriers are taking a keen interest in the other 99 percent, seeing them as a greenfield opportunity for VOIP. Woburn, Massachusetts- based Genuity Inc., for one, believes that its extensive optical network--one of five so-called tier-one Internet backbones in the world (the other four are maintained by AT&T, Cable & Wireless, Sprint, and WorldCom)--is made for VOIP, and vice versa. Nick Damenti, the company's director of IP communication services, says that VOIP traffic can be given priority on such information highways (think of it as a sort of HOV lane for voice packets) to ensure high quality. Telephone carriers that currently buy Genuity's VOIP transport services include Germany Global Network Telephone GmbH, France-based Facilicom, and Virginia-based Primus Telecommunications Group.

While the mere presence of VOIP has played some role in reducing telecom costs, its current use, as essentially a niche application overlaid on the current telephone network, is just a preview of what's to come. Stephen J. Nill, vice president of finance at Westford, Massachusetts-based Sonus Networks Inc., a maker of VOIP switching systems for carriers, is among those who have their eyes on a larger goal--eliminating entirely the circuit-switch technology used by incumbent telecom providers. "We want to replace the telephone network as we know it today with packet networks," he says.

That, admits Nill, "is going to take decades." Sonus's current customers tend to be newer carriers that aren't constrained by massive investments in circuit-switching equipment. Sonus has done well in this space, growing from no revenue in 1999 to $51.8 million last year to Wall Street projections of $180 million this year. But that is a tiny fraction of the $35 billion spent each year on circuit-switching gear. As a result, Nill says, "everyone is still waiting for incumbent telephone equipment suppliers to announce moves into the VOIP space." One indication of pending changes to the old order is the fact that circuit-switching vendors such as Lucent and Nortel, which were slow to embrace VOIP, have recently announced VOIP products.

Nill claims that simple economics will prompt telecom companies to embrace VOIP. As one example, he notes that facilities--often in high- rent urban locations--account for a third of traditional phone-company expenses. A typical central office requires 40 racks of circuit- switching equipment to place 50,000 phone calls. VOIP switches, he says, can handle the same load with two 19-inch racks--a 95 percent reduction in space at half the cost for equipment. In theory, such cost savings will ultimately reach the end consumer.

COMPANY BENEFITS

But companies don't have to wait for telecom carriers to come knocking with VOIP services. They can eliminate their expensive internal telecommunications networks and replace their legacy PBX systems with software-based VOIP-enabled systems that are touted as being far more flexible and cheaper to administer, providing plenty of benefits even though calls may travel on conventional phone networks once they leave the office. Cisco's De Beer claims that relying on a single system like this to handle both voice and data traffic, a feature that analysts cite as the primary benefit of VOIP, results in a 30 percent capital-expenditure savings, and that a return on investment can be realized in 18 to 36 months. But with so few companies actually rolling out VOIP within their enterprises, those numbers are tough to verify.

"I think cost savings will be the table stakes for adoption," says Genuity's Damenti, "but what will really attract companies will be productivity savings from enhanced functionality that the public switched telephone network just can't offer." That's the party line (no pun intended) of VOIP enthusiasts, who promise a dazzling array of new applications. But that is also where the nascent VOIP market begins to take on the familiar tones of technology hype.

"CFOs should be aware of potential red herrings," warns Jeff Pulver, CEO of Melville, New York­based Pulver.com, a research and information provider for the IP communications industry. "This technology is real; it is happening. If you could benefit from easier telecom administration, or if telecommuters with dedicated circuits make up more than 20 percent of your staff, VOIP is something you should adopt in 2001." By 2003, he says, start-up companies or companies moving to new buildings will automatically install a VOIP infrastructure rather than build separate voice and data networks. But, he adds, "If you don't meet those criteria, I would have a hard time selling it to you right now."

In fact, many companies remain skeptical, says Tom Valovic, program director at Framingham, Massachusetts-based research firm IDC. "Cisco hit a kind of wall of reality," he says, "because they could not convince a lot of corporations that a premise-based solution would deliver lower cost, easier administration, and newer services." One clear indicator of the fledgling state of the market is the number of IP phones available. Pingtel officials say they have shipped about 1,200 prototypes and beta unit phones; 3Com has shipped 153,200 IP phones to date; and Cisco officials claim the company has shipped 300,000 IP phones, though most of them appear to have gone to technology partners or internal users. (Cisco has 28,000 employees using IP phones and has replaced PBXs with VOIP switches at 96 of its sites.) Cisco's largest nonpartner rollout was 8,000 phones to New Zealand's Ministry of Social Policy. And, when asked if they were talking to a reporter on an IP phone, at least two vendors sheepishly admitted that the new IP phones were in such short supply that they had loaned out their personal phones for training or sales demonstrations.

One of the few non-telecom companies with a significant VOIP deployment is Merrill Lynch & Co., which is in the midst of a rollout of 3,500 Cisco IP phones. Following the adoption pattern predicted by Pulver, the system did not replace an existing voice network, but was installed as part of construction of a new building in Hopewell, New Jersey, and exists in parallel with a conventional voice network, explains Merrill Lynch spokeswoman Selena Morris.

In the Meta Group survey, large companies (those with 1,500 or more employees) reported aggressive plans to implement VOIP in the next two years. For now, however, VOIP rollouts are largely confined to small companies, often in high tech, such as Boston-based Berkeley Enterprise Partners Inc., which provides customer relationship management consulting to Fortune 500 companies.

"We want as few nonbillable resources as possible. We don't want investments associated with the care and feeding of infrastructure," says executive vice president Jay Gauthier of the two-year-old venture- backed firm. The equipment overhead for each of the firm's 20 consultants consists of a Dell laptop, a rolling file cabinet, and an IP phone from 3Com. On any given day, they choose an available cubicle, plug the IP phone into a single LAN jack in the wall, and plug their laptops into the phone.

"We saved $750 per person just on cabling installation," says Gauthier. "If we ever move out, the next person won't even be able to plug in regular phones."

Instead of a PBX system, Berkeley uses an IP system from 3Com called a Network Branch Exchange (NBX). Among the benefits is that phones in the company's Tarrytown, New York, office are indistinguishable from the Boston extensions. "All our conference calls from Boston to New York are intracompany local phone calls," says Gauthier. "The only downside is that if New York calls out for pizza, it's a long-distance call." Not surprisingly, he is happy to trade a two-hour conference call at local rates with the occasional long-distance pizza order. And even that will soon change when the company moves from traditional local and long-distance providers to Reston, Virginia-based broadband provider XO Communications, which will carry all of the company's phone and E-mail services and host its Web site. The integrated voice and data connection from XO will save the company an additional 35 percent, estimates Gauthier. "We expect a $12,000 reduction in telephony expenses this year. For us, that's pretty substantial," he says.

Another appeal is the system's flexibility and ease of use. When employees shuttle between Boston and New York, they access an internal Web page and reconfigure the system so that calls are forwarded to another office, a cell phone, or a home phone. "None of us is technical, but this is easy," says Gauthier.

JOB THREAT

Almost all companies today have separate voice and data networks, and while vendors claim that convergence promises savings, particularly in terms of staff, it comes with some knotty political issues. Telecom departments increasingly report to the chief information officer, allowing a single executive to champion the idea of convergence, but VOIP is clearly a job threat to specialized telecom professionals.

Cisco's De Beer admits that this situation does result in "a little bit of resistance," but claims that disappears once telecom experts are exposed to VOIP technology. "The telco guys see this as a chance to learn more about IT," he says. "Their skill set is growing, and they pick up more skills in the IP world than they had when they trained on a single-vendor PBX system." Other industry observers aren't quite so kind about the prospects for corporate telecom departments. "When it came to implementation of a converged system, 68 percent of the voice- department respondents to our survey indicated that the data side would do the implementation," notes Elizabeth Ussher, Meta Group's vice president for convergence, global networking strategies. "If I were a voice person, I would be concerned about my job."

"If you are in a telecom department and you are offered early retirement, you should take it," agrees Pulver, who notes that while IT takeovers of the telecom department are increasingly common, "I have seen very few people in telecom take over the [information] systems department."

BUILD OR BUY?

While VOIP promises easier internal administration than PBX systems, it is the hosted service model--basically a modern version of the much- despised centrex system--that analysts predict will be the most attractive. "Voice is the perfect application to outsource to an ASP [application service provider]," notes Pingtel's Hourihan. "The basic functionality doesn't vary from business to business. By contrast, CRM, ERP, and other corporate systems vary dramatically by industry and company." And because VOIP systems can be configured using a Web browser, firms can still retain some control over internal deployment and administration while leaving hardware and software maintenance issues to the ASP.

"By the second half of 2002, you will see some very mature and reasonably stable IP centrex systems, where companies can centralize the messaging and call management between all their employees," says Genuity's Damenti. "That is what I think will drive mass adoption."

While today the main concern about VOIP implementations at the company level is to make sure that basic functions such as conferencing, transferring, and even 911 calls work as well as they did with traditional PBX or centrex service, VOIP enthusiasts tout a number of useful bells and whistles, including:

Automatic reconfiguration. Allows employees to change office locations without the hassle and expense of reprogramming a PBX.

Find me/follow me. Users can log into the phone system from different office locations or conference rooms.

Telecommuting. Employees with DSL or cable modems can work from home with a fully functional office extension that behaves like an internal line.

Global centrex. Companies with multiple locations worldwide can still use a single internal four- or five-digit extension system.